Foreclosure Alternatives quoted me in 3 Foreclosure Alternatives: What to Do Before Your Mortgage Goes Underwater. It opens,

Maybe you’ve missed a couple of monthly mortgage payments. Maybe a notice of default from your lender is looming right now. You understand the severity of the situation, but what most homeowners don’t know is that foreclosure is not the only option you have when you’re no longer able to afford your house.

The first step for anyone in risk of foreclosure is to get in contact with your lender. This shows that you are aware of the problem and committed to finding a solution—and trust us, that will go a long way. The earlier you reach out, the greater shot you have of amicably rectifying the problem.

After you speak with your lender, your lender will lay out your options, including the foreclosure alternatives that you might be able to take advantage of. Let’s take a closer look at some of the alternatives so you—and your credit history—don’t suffer the ultimate blow.

1. Standard sale or rental

If your home is currently valued at more than you owe and if you are up to date on your mortgage payments (but you anticipate that paying your mortgage could become a problem), you can hold out as long as possible for a buyer.

You can also try to rent out the home to cover the mortgage payments until the house sells, says Carolyn Rae Cole, a Realtor® with Nourmand & Associates. In the end, virtually all homes eventually sell—it’s just about pricing.

2. Short sale

When a home has fallen in value and is priced so low that there isn’t enough equity to cover the mortgage, you might have the option to conduct a short sale. It’s also known as going “underwater.” This means the lender agrees to accept less than the amount the borrower owes through a sale of the property to a third party.

A short sale works like this: A specialist brokers a deal with the mortgage lender to sell the home for whatever the market will bear. If the amount of the sale is for less than what’s owed on the mortgage, the lender gets the money from the sale and relinquishes the remaining debt. (This means you won’t owe anything else.) In a short sale, the lender usually pays for the seller’s closing costs. A traditional sale takes about 30 to 45 days to close after the offer is accepted, whereas a short sale can take 90 to 120 days, sometimes even longer.

Sellers will need to prove hardship—like a loss of primary income or death of a spouse—to their lender. In addition to explaining why they’re unable to make mortgage payments, sellers will have to provide supporting financial documents to the lender to consider for a short sale.

3. Deed in lieu of foreclosure agreement

A deed in lieu of foreclosure is a transaction between a lender and borrower that effectively ends a home loan. Essentially both parties agree to avoid a lengthy foreclosure proceeding by the borrower voluntarily turning over the home’s deed to a lender, says professor David Reiss of Brooklyn Law School
. The lender then releases the borrower from any further liability relating to the mortgage. However, if the property is worth significantly less than the outstanding mortgage, the lender may require the borrower to pay a portion of the remaining loan balance.

You might be eligible for a deed in lieu if you’re experiencing financial hardship, can’t afford your current mortgage payment, and were unable to sell your property at fair market value for at least 90 days.

Bottom line: This agreement is a negotiated solution to a bad situation—borrowers who have fallen behind on their payments are going to lose their house and the lender is not getting paid back in full.

Kroll on Mortgage Performance

The Kroll Bond Rating Agency has issued an update of its residential mortgage-backed securities model methodology, Residential Mortgage Default and Loss Model. Before the financial crisis, ratings models seemed to be very reliable, data-driven models of probity and caution. We have since learned that different mortgage vintages (the year of origination) can behave very differently and ratings models could be based on simplistic assumptions. Hopefully, the updated Kroll model does not suffer from those flaws, although their key takeaways seem pretty basic to me:

  • Underwriting standards are the fundamental determinant of mortgage quality.
  • Negative home equity creates a major incentive for borrower default, resulting in substantial credit loss.
  • Credit scores continue to have value as a relative indicator of risk.
  • Inflation of real home prices above the long-term mean is unsustainable and represents increased credit risk. (4-5)

Kroll’s update does include some interesting revisions, including,

Reduced default expectations for purchase loans. It has long been observed that purchase loans generally have lower default risk than refinancings, all else being equal. This is attributed to the fact that a purchase represents an actual arms-length transaction which yields a more accurate view of a home’s value than an equivalent refinancing transaction. However the pre-crisis mortgage vintages showed high levels of default associated with purchase mortgages. This was largely due to the practice of extending credit to first time homebuyers, often on very favorable terms despite these borrowers having little credit history or poor credit history. This poor performance by purchase loans was reflected in the historical data regression analysis used to develop the RMBS model.

Based on analysis focused on both jumbo and conforming prime mortgages, KBRA has found that, for these loans, the traditional benefits of purchase loans remain well established, and we have adjusted the model ‘s treatment of purchase loans to reflect lower default expectations relative to equivalent refinancing mortgages. This revision is effective with the publication of this report.

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Penalty for high debt-to-income (DTI) loans. While the KBRA RMBS model does not contain a specific risk parameter based on DTI, it is our opinion that very high DTI loans can bear significant incremental risk. When we began to encounter newly originated loans with back-end DTIs in excess of 45%, we assigned an additional default penalty to such loans. This has been documented in presale reports for those rated RMBS backed by loans with high DTIs. (3)

Time will tell if Kroll got it right . . ..